Cognex Corporation (CGNX) Q1 2019 Earnings Report, Transcript and Summary

Greetings, and welcome to Cognex First Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Cognex CFO, John Curran. Thank you. You may begin.

Thank you, and good evening, everyone. I'm John Curran, Cognex's CFO, and I'd like to welcome you to our first quarter earnings conference call for 2019. With me on today's call are Dr. Bob Shillman, Cognex's Chairman; and Rob Willett, Cognex's President and CEO. Please note that our earnings release and quarterly report on Form 10-Q are available on the Cognex website at www.cognex.com. Both contain highly detailed information about our financial results. During the call, we may use a non-GAAP financial measure if we believe it is useful to investors or if we believe it will help investors better understand our results or business trends. You can see a reconciliation of certain items from GAAP to non-GAAP in Exhibit 2 of the earnings release. Any forward-looking statements we made in the earnings release or any that we may make during this call are based upon information that we believe to be true as of today. Things often change, however, and actual results may differ materially from those projected or anticipated. You should refer to our SEC filings, including our most-recent Form 10-K for a detailed list of these risk factors. With that, I will now turn the call over to Dr. Bob.

Thank you, John, and welcome, everyone. As shown in the news release issued earlier today, our Q1 results were in line with our expectations with revenue near the top end of our guidance; and in fact, Cognex set a record for Q1 revenue. Well, that's the good news. The bad news is that, year-over-year growth was slower than we would've liked, reflecting today's lower growth environment. Right now, I'm in San Diego and everyone else on the call is at our Natick headquarters. So, for further details, I'm on going to pass the call over to my partner, Cognex's President and CEO, Rob Willett. Rob, take it away.

Thank you, Dr. Bob. Good evening, everyone. As Dr., Bob said, revenue in Q1 grew just 2% year-on-year due to market conditions that we discussed in our Q4 call in February. Lower spending by customers in China and in the automotive sector in the Americas offset most of the strong growth that we achieved in logistics. Given these conditions and the greater visibility we now have into consumer electronics, we expect our overall revenue will shrink slightly in 2019. Let's take a closer look at what's happening. In consumer electronics, we now expect customers to defer investments in automation and machine vision, particularly in smartphone manufacturing. As a result, we expect that revenue from consumer electronics will decline by approximately one-third in 2019, marking the second consecutive down year to this major piece of our business. While there’s inherent volatility in consumer electronics as we’ve witnessed over the past three years, we remain confident that we are not losing share in this market and that Cognex machine vision is a key element of manufacturers’ long-term plan, both to bring new products to market and to realize productivity and quality gains. Considering the significant decline expected for consumer electronics, we believe that automotive will be our largest end market in 2019. However, we are anticipating challenges in the automotive market as well. After three years of strong growth, revenue from automotive is relatively flat due to lower sales in China and the Americas. Manufacturers are scaling back and delaying large automation projects in responses to change in consumer purchases, declining unit sales, and evolving product roadmaps. On the positive side, there are trends shaping automotive that will benefit Cognex over the long term, including a ramp-up in electric vehicle production by mainstream automakers, the relocation of manufacturing facilities, and the increased use of sophisticated electronics in automobiles, all of which will require more machine vision and barcode reading. Turning to logistics. I'm pleased to report continued strong growth year-on-year in Q1, driven by a broad base of customers that includes many well-known e-retail and retail names. As the e-commerce sector grows, forward-thinking customers are recognizing the need for automation to improve the speed and accuracy of delivery, and they are turning to Cognex vision and barcode reading as key enabling technologies in their distribution centers. Many of the other industries we serve also continued to grow strongly as our products become easy to use and our sales team reaches more customers. Cognex has always viewed market slowdowns as an opportunity to reallocate existing resources to high potential areas of our business in order to take market share. Our long-term approach includes developing technology to address fast-growing areas that can bring significant revenue over time such as logistics, deep learning, 3D, mobile terminals, and life sciences. Turning to new products. We recently introduced the DataMan 370 series of fixed-mount barcode readers for general manufacturing and logistics customers. More accurate and twice as fast as competitive readers, the DataMan 370 simultaneously reads different sized, challenging 1D and 2D codes even if the codes are positioned at varied angles and distances from the reader, such as on packages inside high-volume logistics scanning tunnels. We also introduced several 3D products that outperform what’s available today in the 3D vision market. DSMax is the world’s fastest and highest resolution 3D displacement sensor ideal for precise measurement of fine details on very small parts such as electronic components smaller than a dime. 3D-A5000 delivers highly accurate 3D point cloud images from over 1.5 million data points, and when combined with powerful Cognex 3D vision tools, performs highly precise assembly verification, in line measurement, and robotics guidance in factories 10 times faster than current methods. Marking our entry into 3D dimensioning, the 3D-A1000 was recently previewed at two major logistics tradeshows, where its precise measurement of boxes, polybags, and envelopes traveling at high speeds on conveyer systems generated substantial interest. Advancing Cognex’s powerful 3D toolset is PatMax 3D, a breakthrough part locating vision tool for our entire 3D product range. With that, I’ll pass the microphone to John for financial details from the first quarter. As we announced earlier this month, John will be leaving Cognex on May 3. I want to take this opportunity to thank John for his contributions as Cognex’s CFO these past two years, especially for his work implementing our new ERP systems and the further development of our finance and administration organization. We wish him all the best.

Thank you, Rob. It has been a rewarding experience to be a part of such an exciting and financially strong company and to help lay the foundation for its continued growth. I will miss working with such a talented and dedicated group of Cognoids, and I wish everyone at Cognex all the best. Turning now to details of the quarter. As Dr. Bob said, our Q1 results were as we expected. Revenue in Q1 was a $173.5 million, representing year-on-year growth of 5% when excluding FX. Logistics continued to show strong growth but as previously discussed, we experienced weakness broadly across Greater China and in the automotive sector in the Americas. Gross margin was 73% compared with 76% for Q1 of 2018 and 73% for Q4 2018. The year-on-year decline was primarily due to the unfavorable absorption of manufacturing overhead costs. Operating margin was 17% in Q1 of ‘19 compared with 20% in Q1 of ‘18. The dip in gross margin was the largest contributor to this decline. Also, the 2% increase in operating expenses had a slight negative impact. We benefited from a $2.7 million discrete tax item from the exercise of stock options during the quarter. Excluding all discrete tax items, earnings were $0.17 per share in Q1 of ‘19 compared with $0.18 a share a year ago. Looking at revenue from a geographic perspective. Overall market conditions in Q1 were generally in line with our expectations. Europe grew by low-double digits year-on-year and delivered the largest contribution of growth, both in absolute dollars and in percentage terms when excluding a 6-point negative impact from currency exchange rate. Growth came from several industries and was led by logistics and consumer products. Americas also grew by low double digits. Growth was led by substantially higher revenue from logistics customers, which was partially offset by lower revenue from automotive as our customers are deferring spending. In Greater China, more so than anywhere else, we see customers deferring their capital spending plans. Continued weakness across the region resulted in lower revenue year-on-year. The negative impact of currency exchange rates contributed 6 percentage points to the decline. Revenue from other Asia, declined due to lower spending by consumer electronics and semiconductor capital equipment manufacturers. Otherwise, underlying demand in the region remained solid. Looking at our balance sheet. Cognex continues to have a strong position with $864 million in cash and investments, and no debt. Inventory decreased by $4 million or 5% from the end of 2018. Lastly, we prospectively adopted a new lease accounting standard, which resulted in the $17 million balance sheet gross up at the end of Q1. With that, I'll turn the call back over to Rob.

Thank you, John. Turning to guidance. Revenue for the second quarter is expected to be between $190 million and $200 million. While this range represents an increase over Q1 of ‘19 it is lower than Q2 of ‘18, for the reasons we have discussed. Furthermore, while it's not our practice to provide full-year guidance, I will say that all of 2019, we believe revenue will decline slightly year-on-year and be somewhere right between the levels we've reported for 2017 and 2018. We expect gross margin for Q2 will be in the mid-70% range, in line with the 73% gross margin we've reported for Q1. Operating expenses are expected to increase by low single digits on a sequential basis. The effective tax rate is expected to be 15% excluding discrete tax items. With that, we will open the call to questions. Operator, please go ahead.

Thank you. [Operator Instructions] Our first question is from Joe Ritchie with Goldman Sachs. Please proceed.

Hi. Good afternoon, everyone.

Hey, Joe.

So, Rob, maybe let’s touch on China for a second. I saw in the Q that China was down mid-teens in the quarter. It seems like machine tool orders and electronics are kind of at all-time lows, auto production starting to look up a little bit. But in effect, you’re basically calling weakness throughout the rest of the year. Are there any green shoots that you are seeing throughout your business? I know that you’re expecting a little bit of pick up in 2H. Just any color around that would be helpful.

So, China has been a great growth market for Cognex for many years, and we believe it will continue to be in the long term. But near term, as you rightly pointed out, it’s broadly soft more so than anywhere else. And what we see is the lack of confidence among other issues is causing capital expenditures to be delayed. So to speak to your question specifically, I think if that confidence comes back suddenly or quickly, that’s what is likely to change things around. And I would say, China has a habit in my experience of turning around as a market quite quickly when it does turn, but that’s not what we’re assuming is going to happen currently. Our largest end markets in China are electronics and automotive and both notably softer. I would say, as we look forward, there’s still just so much manual labor performing basic tasks that can be better performed by machines and smaller China manufacturers are coming up the curve, and the logistics infrastructure also is in stages of the modernizing and investing. So, I think all of those bode well for Cognex in the longer term, the question is how quickly will it turn around, and we’ve assumed in our words to you, not soon.

Fair enough. And I guess, one of the things that we’ve noticed in some of the tradeshows we’ve been to, it seems like competition on the 3D vision and logistics products piece is increasing. Now look, given the growth rate has been incredible for you guys over the last several years, I guess are you seeing any of that increased competition, do you need to do anything additional from an investment perspective? I know you’ve launched new products recently. But, maybe talk to us about how you’re penetrating that market on go-forward basis specifically as it relates to 3D vision?

Yes. So Cognex has been in the 3D vision business now for a few years, and we see it as a very high growth area for us. In previous years, I’ve talked about 3D vision being around 5% of our business with the potential to grow at 50% a year. I think in the long run, we still have that view. Growth for 3D vision for us was stifled last year by consumer electronics, and I expect we’ll see a similar dynamic this year, based on the softness of that market. However, your question relates to logistics. And I think the potential for Cognex 3D and logistics is very significant. We -- most of our logistics business today is primarily in barcode reading, and we’re seeing it expand into vision more for various tasks like inspecting packages and looking for damaged packages or looking at numbers or letters on packages and symbols such as hazardous symbols on packages. So, it’s expanding into vision. And then, now, we're really starting to move into 3D vision in logistics, which is something we weren't really doing up until last year. And so, there’s potential for that to grow significantly, a product we did preview at the two largest logistics trade shows for our industry this year, ProMAT and LogiMAT was the 3D-A5000, and that's the 3D vision system which has superior technology over time of flight and laser-based dimensioning. The dimensioning is something that happens a lot in logistics increasingly where customers are more often being charged for the size of packages, not just the weight. So, this is a great growth market, and we have advantaged technology, which gives a much cleaner image of what's being studied as it moves down the production line, it's also a technology that's much easier to integrate and much easier to manage than laser and time-of-flight based products. So, we see that as I think shorter-term perhaps during the second half and then on growth driver for us at 3D and logistics. Then, there is another market, and I think probably many of you on the call went to the trade show in Chicago and you would have seen a lot of companies doing kind of robot vision-enabled tasks. We see a lot of companies spending a lot of money in that space. But, we think the technology is still relatively in its infancy. And we have great technology in that space, but we still think it's some time before we see the kind of random bin picking replacing humans in logistics that I think is creating a lot of excitement today. So. I think that market is still some way off. When it does come, I think we are very well positioned, because we really are working with the leaders in this space looking at what's going on. But we realize that I think a lot of money is going to get lost in that market for quite a long time before it finally turns into a profitable venture. So, we're being thoughtful about how we're approaching it.

Thanks, Rob. If I can just ask one quick clarification. You mentioned earlier that auto is going to be your largest end market this year from a revenue perspective. Is logistics going to be as large, if not larger than electronics?

I don't think we're going to give specific input on that at this point, Joe.

Okay. Thank you.

Our next question is from Josh Pokrzywinski with Morgan Stanley. Please proceed.

Just to maybe take some of the near-term weakness in auto and electronics a bit further up. I think, over the last of couple years, clearly, there has been a big accumulation of automation technologies in both of those industries, particularly in China. I think, if you were to work at robot installations over the past decade, they probably don't look too far below your own growth rates. You mentioned that there's still a lot of runway and a lot of manual tasks that are being automated. But, how far along do you think we are in kind of the penetration of automation into some of those markets? Do you think we're halfway there or quarter of the way there, 80%? I know, it's kind of tough question, but just trying to think of coming off of a long period of growth now. How much of this is a deceleration that could stick with us for a while versus a reset year and back off to the races?

Okay. So, I think how I approach that question is I think about it is what’s the ultimate end point. And I think it’s what I would call lights-out [ph] manufacturing. And where do we see closest to that in automation today, possibly in the semiconductor and perhaps some closer but no way near in automotive. Other industries I’d say are so far away from full automation of their processes, and I would say, certainly less than 25% penetrated as I look around the industries that we serve. And to give you an example, we’ve talked about a slowing in consumer electronics but if we wanted to wonder the China market, which has passed the most difficult market today in terms of growth, the number of people that we see in manufacturing, literally millions of people assembling electronics as an example that really can be replaced by products, robotics and vision that will do a better job in the long run and more consistently gives me a sense that this market still has a very, very long way to run. And of course, we’re a technology company, so our products are getting more powerful, easier to use, easier to integrate, less expensive. And we’re bringing new technologies to market in vision that kind of expand the boundaries of what we do, perhaps the best example being our new deep learning technology which really does allow us to replace more and more basic visual inspection in production. So, not only are we gaining share from non-automation to automation, we’re also expanding the boundaries of what automation will do. And then, we see new markets continuing to adopt automation as an example food which was very underpenetrated from robotics and vision perspective a few years ago, but we now see it being a fast growing market for us and there are many other markets to which that applies. So, I’m viewing this as a temporary phenomenon in a slowdown of the move of automation into a lot of markets.

Got it. And I guess, within -- and this is my follow-up, given maybe some broadening of the application set beyond kind of the traditional two large markets for you guys, electronics and auto, what does that mean from mix? Is that mix positive, is that mix negative, does it matter? Because obviously the type of buyers, the applications will change as you kind of run around the application to application? Thanks.

When you say mix, Josh, presumably you mean the profitability?

Yes, product mix if you want to think about in gross margins or ASP, whatever makes the most sense to you, and we could kind of contextualize.

Yes. I mean, I think to speak in generalities, I think generally smaller customers who don’t require much support from us tend to have low service components to their revenue. So, then we often put the business through partners, so we often see them having higher margins overall and they use discrete vision system technologies, like insight for instance. So, that can be margin accretive for us overall. We tend to see certain industries where customers are large and adoption is complex, requiring more support from us. So, we see that particularly in the smartphone market and the logistics market currently where we have some very, very large customers and potential customers who need more application engineering support from us. So, we see that in logistics at the moment, and that’s dilutive, and that is an impact to our gross margin year-on-year, which I think we've spoken about already with you. So, we see some of that. So, I think the smaller customers that are adopting let's say that will stay under sort of 10% of our revenue for longer periods, that's a potential to adopt the technology themselves. We have very easy-to-use, easy-to-adopt technologies, I'd say [ph] the easiest in the industry, and I think that bodes pretty well for our margins. Another thing to bear in mind is that as these new customers bets kind of develop, that means we have to call on a lot more plans globally as the industry broaden. And that's one reason we’ve added a lot of sales noise over the last few years just to extend our reach, and as we develop products such as our In-Sight 2000, the DataMan 370 we just launched, it means those salespeople can call on plans upon and close business relatively quickly, so we need more coverage to do that. That's going to be great for our margins the long-term as the business grows. But right now, certainly it means that were carrying more expense than we would have, if we were just serving a few industries.

Our next question is from Richard Eastman with Robert W. Baird. Please proceed.

Yes. Thank you. Robert, could you talk just a second or two about the auto business? And I'm thinking, you have another big second quarter comp from last year. But, if you think of the business in dollars that come the auto industry, I'm just curious from a dollar perspective, are we near what you might think of as a bottom or when you think of the business sequentially, or how do you see that playing out for the year perhaps comps aside?

Okay, Rick. Yes. I think that depends on what's going to happen in various markets. So, I'll kind of give you an overview and try to put some color on that. So, the China market is broadly soft more or so than anywhere, and uncertainty among other issues is causing capital expense to be delayed. The American automotive market is noticeably slower than it was, manufacturers are scaling back large automation projects as they focus on reducing production rates. Europe has been performing relatively well this year, brand owners in Europe seem to be more optimistic coming into the year. And then, in the rest of the Asia, the automotive business is more solid delivering better growth for us, particularly around automation, new technologies and electric vehicles. So, kind of with that as backdrop, I think what I would say, I do see some sequential growth for Cognex as we move through the year on automotive. But whether that’s very limited growth or a stronger growth depends on how some of the uncertainty plays out. I think the uncertainty is quite consumer-driven in China where we're going to see more stimulus. And then I think to some degree the trade, uncertainty that’s is hanging over America and China and potentially for Europe too is an issue. And if that I think loosens up, we'll see some capital break free and we should see better growth rather than just very limited growth as we go through the year year-on-year. I would add that in terms of automotive, I spent some substantial time last month in the southern states of America visiting automotive companies and their suppliers. I did see a lot of uncertainty and stagnation. There are so big automotive plants producing their shift from three to two shifts in some cases, and I saw slowing down of investments going on among Tier 1 suppliers, notably Japanese suppliers as an example. So, I don’t think that’s a long-term phenomenon. I think it’s a temporary phenomenon and how quickly it changes will determine the answer to your question about whether we’re sort of rather stagnant or returning to growth.

Okay. All right. Thank you. And then just my follow-up actually, I want to a question off to Dr. Rob if he’s live on the call?

Dr. Bob, are you want, perhaps?

Exactly, I was on mute. Thank you. I am now back and fully here. I was on mute.

My question was around the robotic guidance market, and this path towards automating bin picking. And it seems like the early vision market here is kind of in two pieces, one is around the movement of the pick itself and the other is kind of movement around the arm. And I'm curious if we end up in a situation where we have one, bit of software that’s maybe 3D software that can do both tasks because it seems to me the movement of the pick itself might be somewhat commoditized at some point. Am I thinking about that right, and just your thoughts on that, Dr. Bob?

Okay. The general bin picking problem has been around since I was a graduate student 40 years ago. But at that time, it was presented as a tub of identical parts lying in any random array, and the goal was to find the one that was on top. And that pretty much is solvable. But the problems that customers want to solve today is quite a bit more difficult than that. The problem, as I understand the customers want to solve is there’s a bin, some place in a rack even, not necessarily on a laboratory floor; there is a bin in space and it contains numerous items not all the same matter of fact. Now if you ask a human, which into his bin without even looking, your hand over your head, and pick out the pen, the packets of the pen in it, instead of the packages that have calculators in them or whatever, a human can do that. And having been in this field for 40 years now, everyday I'm more and more impressed by what humans can do, even a low human. The ability to find things, to grasp them and if they grasp it, they grasp it appropriately and hard enough, so they won’t drop it even if they’re moving their hand quickly. So, the problems we’re facing today are that there’s a bin somewhere and there are mix parts in there in various orientation and the goal is to pick out the calculator out of that bin, which contains other things as well as calculators. Now the problem, even though humans can do it by a sense of touch and understanding what things feel like and how hard they are, how much they weigh, the problem requires today form automation to be solved, it does require machine vision to look into the beam, the first thing to do to look into the beam, try to find the part that's there and then more importantly, or as importantly, locate the point to pick it up. Because if a robot arm goes in there and picks it up from the end let's say, let's say it's a piece of wood measuring a foot long, if it picks it up by the end, by the time the hand moves back to put it in the shipping carton, it will have dropped that because how it turns out, the robots have to move quickly to justify this entire system. So, not only does the vision have to determine where the part is it is supposed to pick up, but also where to pick it up, then that's the vision problem very complex, very complex. Next, there is the gripper problem. What kind of gripper is going to be used to pick up the part. Well, there are a variety of different kinds of grippers, there are mechanical ones, suction ones, and how harder they squeeze on it, so that when they move quickly, they won't drop the part, very hard problem. Then, there is a robotic mechanics problem, which is how do you move the arm and the gripper in such a way to get into the bin, not knock the bin, not hit the other staging that is holding the bin and compute the path to pick it up and then to retrieve it and put it back in the box. So, this is a very, very difficult problem. I would say, it's almost equivalent to self-driving cars, which is again a very difficult problem. And although we have pieces of that puzzle, I don't believe that anyone yet has put the entire, all those pieces together into a solution. And we've been working with variety of companies to try to solve this problem. But I'm afraid that, it is beyond the technological state-of-the-art and will remain so for a few years.

And just to be clear, the way you're seeing it currently is more around 2D vision to identify the problem, is that how Cognex is approaching or is it 3D?

No. In the most difficult case, we need 3D because you have to determine which part is on top, because that's the one you're going to pick up. So, we have been using some advanced snapshot 3D sensors of our own design, our own technology to work on this problem. But, I believe it’s going to be a long time before these major e-tailers can layoff or re-purpose the people who are now doing the bin picking, it's going to be a long time.

I got you. Thank you. Thanks for the explanation.

You're welcome.

Our next question is from Jim Ricchiuti with Needham & Company. Please proceed.

Hi. Thank you. Good afternoon. I may have missed it, but did you provide a growth rate for the logistics business in the quarter? I know that you've been historically talking about it growing 50% or better, but I was just wondering this past quarter what was the growth rate?

Hi, Jim. We're not going to give quarterly growth rates on any specific market that we serve. I'm going to say that we are very happy with the growth rate we achieved in logistics in the quarter.

Okay. Rob, I wonder if we could look at the consumer electronics business and the kind of decline that you’re anticipating for this year. I'm trying to understand a little more about the dynamics in that market right now. Is it just market weakness or some of the customers, potentially the larger customers also perhaps repurposing some of the existing Machine Vision. I know other times as companies, some of your customers transition to new products, it ended up being a significant investment in all new vision. And I'm trying to get a better sense as to what might be happening in some of these factories. Thank you.

Yes, Jim. So, what we’re seeing is large customers in consumer electronics are deferring investments in machine vision and particularly in smartphone manufacturing. Broadly speaking, a number of customers are focused on upgrading their existing lines, and they’re not making heavy investments in new capabilities this year, as far as we can see. And as we said, we expect the business to decline by about a third this year, and you’ll see the impact most notably and strangely in our European region because some large customers purchases from us there but also in China, and in the rest of Asia. So, consumer electronics remains a growth opportunity for Cognex, and the companies have product plans that require automation and machine vision to implement. So, new innovations that we all readout in the newspapers such as foldable screens, wireless charging, virtual reality, we’ll certainly require more complex manufacturing processes in the long run. And although we may see some of those technologies in various companies’ products today, they’re still really being tested and not rolled out in any massive hardware sense this year. And the focus is more on retrofitting existing lines and improving productivity. Certainly, rising wages, and current processes are still very labor intensive. And so, certainly focus on those areas to reduce cost. And then another factor that’s going on certainly is new facilities are being built as companies diversify away from China to other emerging areas. I mean, we even read about electronics manufacturers here in the U.S. but certainly also in India and other markets we’re seeing some investments too, just start to being. So, I’d say it’s a very transitional year. It’s one where the new technology is not here yet where there’s a lot of focus on cost, and that’s kind of certainly having its impact on our business. There is business for us for retrofitting and improving lines. But as you can see from our guidance, it’s much less exciting and growth oriented than when major new lines are being implemented or new features are being brought to market.

Our next question is from Joe Giordano with Cowen & Company. Please proceed.

I was just wondering if you had an update integration of some deep-learning capabilities into the In-Sight platform. I know, it’s seems from your guide that trade shows and it’s something you guys has been working towards. I think some of your competitors are close to launching something similar to that. So, just any update there on being able to put all that technology onto a single platform?

Generally, Joe, we don't give comment -- or we don't comment about future product launches, which may or may not be coming from Cognex. So, that's not something that I would comment on. Certainly, we're very excited and we're seeing some excellent growth in our deep-learning business. It’s an area we think we are leading in from a technology point of view and of course making that technology more accessible and easier to use would be what one would expect of product roadmap to include. But, I'm not going to get specific about when and in what form we might launch future products with that technology.

Okay. When I think about where your balance sheet is and what you've done over the last couple of years, you’ve obviously -- you were hiring like crazy to meet demand. So, how do you feel you guys are positioned now in terms of like your capacity to hire from a human capital perspective, and in terms of financial capability? I was a little surprised to see no buyback this quarter, so how should we think about that going forward?

Yes. Joe, I’ll talk about the sort of capacity issue, then I’ll invite John to comment on the buyback. So, you're right, we’ve been investing very heavily in the business. We saw some phenomenal growth and a phenomenal potential in the business. Obviously 44% growth in 2017. We were in a sense under capacity as we -- we didn't the capacity to support that level of ongoing business as we exited the year. So, we were doing some catch-up in ‘18. But, what you're seeing now is we’re going to be slowing down significantly on hiring and expense growth. And we’re reallocating resources, we’re Cognoids that are very talented and capable individuals that we take great effort to hire, have cultural fit with our business and then train and develop. So, they're great assets for us that we're going to in the process of redeploying towards high growth areas of the business such as logistics. So, we think it gives us extra capacity for what we want to do in future, but we’re certainly going to slowing down expense growth and hiring based on what we see, and we've been discussing on this call. Now, I'll turn it to John on buyback in Q1 question.

So, Joe, as you mentioned, we weren’t in the market in Q1. Last year, we got our purchases, we got pretty far ahead of our dilution. So, we kind of paused on the buyback at the end of last year and into Q1. But we plan to be in the market in Q2. We’ve had a significant grant during the quarter. So, we'll be back in the market. Just as a data point, we have about $190 million authorized by the Board. So, we're ready to go.

If I could sneak one quick on, just a math clarification. Just in your consumer electronics business, you mentioned down a third or so this year, I think it was down a similar amount last year. Can you just maybe frame how much dollars in that business versus 2017 base is going to be gone and effectively has been made by other parts of business because revenue on a full basis will be above 2017?

Yes. I think directionally, the revenue in that market was down about $65 million last year. I think we would expect to see it down about a third this year, so a similar amount generally. The question you had it was what was it in ‘17 and what is going down. And I think we may struggle to answer that question but we might do little work offline and answer a little later in the call…

Fair enough. Thank you.

We’ll try to aggressive.

Our next question is from Andrew Buscaglia with Berenberg. Please proceed.

Hey, guys. A quick question on some of your machine vision peers, some main customers. [Indiscernible] calling for a flattish to up mid single digit year in 2019. So, you mentioned you don’t think you’re moving share. But why -- what’s -- how do you triangulate the commentary out from your publicly traded peers? Is it they’re playing in different niches that maybe they’re going differently, but keep can you comment on what’s the delta there?

Yes. Andrew, I think there aren’t really any like-for-like publicly traded peers of Cognex. I think there are different data points in the market from publicly traded companies, but none of them really map very well to what Cognex is. Certainly, our largest competitor is KEYENCE. And I think they may see similar phenomenon we do, but their exposure to markets may be different and of course their business is much larger and much more diverse than ours. And then there may be other companies, smaller publicly traded companies deals that deal specifically with electronics or other markets. So, you may see them affected in different ways. So, I think when we talk about share, we think about the accounts that we serve. Bear in mind that Cognex is the largest and most respected machine vision provider in the automation world. So, pretty much all of the major companies that use machine vision do use Cognex whether we have the biggest part of their business or not it may depend. But certainly, we have a very good feel about what’s going on with their plans and if and where we might be losing or gaining share. I think, my comment related specifically to the consumer electronics vertical where we obviously have some very, very large business and deeply penetrated businesses certain accounts. So, certainly that’s driving our confidence that although our business is severely down, we’re not losing share or account share in that market per se.

Got it. And if you could comment, you’re seeing a lot of cash here, free cash flow is still strong, but kind of a down year. Will you consider, are you looking harder like inorganic growth opportunities. And maybe could you comment on what M&A valuations are like and things you are looking at, are you getting more comfortable there?

So, we look at acquisitions for growth opportunities on an ongoing basis, regardless really of whether our business is growing fast or in this case not growing at the moment. So, that’s -- it’s not really a growth driven activity. And we have a very structured approach to acquisitions with a corporate development team that maps markets, looks at our own market and what represents good bolt-on opportunities for us in our existing markets and what adjacent markets we might enter through acquisitions. We’ve made six smallish acquisitions in the last couple years or so. Generally, they've been acquisitions we really like a lot, which are great engineering and technology companies with a small number of employees and a lot of talent and growth potential. And we’ve seen that flow through particularly in the areas of deep learning and 3D. So, that's the type of acquisition that we like. There are, I think perhaps to speak more direct to your question, some larger opportunities out there to acquire competitors, and certainly we have what I would refer as a shopping list. And as those companies become available, then we’ll certainly look at them. And those could take larger amounts of capital to acquire. So, certainly, we do look at those. But, we are highly selective in what we choose to acquire, and a big factor for us is our culture. We don't want to bolt on some kind of underperforming or less than excellent culture to Cognex because we believe that's so essential to our long-term success as a business. But there certainly are companies that we would like to acquire if and when they become available, and that might consume hundreds of millions of dollars of cash to do so.

Our next question is from Karen Lau with Gordon Haskett. Please proceed.

Hi. Good afternoon, everyone. Bob, I want to start it out with China. You mentioned longer term adoption still very robust for machine vision in markets. Can you talk about how big of your China business is still oriented towards consumer electronics and auto, and are you seeing any benefits from like other industry adopting machine vision, benefiting the Chinese business in any way?

Yes Karen. So, you're right that our two largest vertical markets in China are electronics, and really only in recent years, automotive, we've seen very, very strong growth in our automotive business in China over the last three years where it’s liable in consumer electronics in terms of its size. And then, we have a lot of other markets just as in other geographies that we serve in China, and we see very widespread and fast adoption in markets like that, so pharmaceuticals, medical device, solar for instance putting up some very good growth numbers even in this type of an environment. So, I'd say, those are more big growth opportunities off small bases that we see. And it’s certainly a reason that we’re seeing build the sales force to be able to reach all those potential customers.

So, as you parse out consumer electronics, which obviously has its own dynamic in China, have you seen any improvements in sort of CapEx, investment sentiment in the past months or after Chinese New Year? Because there seems to be so much stimulus going on like cutting prices in cars, or cutting manufacturing taxes. So, it sounds like from your guide, you're not seeing any improvement but are you seeing any stabilization, improvement at all in China outside of CE?

No. I'm reading the same things that I'm not really seeing the market turn and the investment come back on yet. That's what I would say.

Okay. Got it. I guess, more broadly, I guess, you guys started the call calling out slower business conditions. But, as far as from electronics and auto, have you detected any hesitancy in like other types of customers towards investing in automation, like anywhere in any verticals at all?

I mean, I would say, it's more of a geographic phenomenon is what I’d refer to. I think, as I look across our Americas business, I would say, in general, it's not -- there's not a sort of level of buoyant investment in automation right now that we did see, say back in a year ago or in 2017. So, that's the case I think Also Europe, you see -- we see and read a lot about a lot of hesitancy in that market too. I think, our European business has done better than we expected so far this year, and we're still seeing some stronger trends there than we expected to at the start of the year. But even there, you can see some hesitancy, particularly I think in Southern Europe where financing may be more difficult to come by; customers are a little bit less bullish in terms of their investment plans. And then, I think another thing to appreciate about the automation market, which maybe many of us do is quite global, and there are certainly big machine builders in southern Germany or in Italy, or in Japan or Taiwan or Korea, that are very dependent on global customers, particularly in China. So, if those customers are paring back their investments or waiting, it can hurt at order books of companies in those very distant geographies.

And then, just one last one, quick one on consumer electronics. I understand that you mentioned you're not losing shares, but you compare, what you're diving to the down one-third number that's pretty drastic after down 20% last year, right? And I think some of your -- to the earlier question to peers or some business partners kind of talked about their consumer electronics market, expecting to be like -- not down as much this year. I realize the trend can change very quickly. But, I’m just curious, you're not losing share, but are you in any way maybe suffering from some sort of trade repercussions from like Chinese smartphone makers, towards like U.S. suppliers, maybe temporary, is that like -- has that been any impact to your business at all?

So, I think what I want to do Karen is I want to qualify what I said is, I don't think we're losing any account share, overall. Although we may have exposure to some larger customers, greater exposure than other companies do. So, I think that may be part of the confusion in this, overall. So, I would say, as I look at accounts and I look at the business we're having, and I look at our sales funnel and our CRM system, the business seems to have we're working on, we're not losing at a rate that seems different than in the past. But, I think when all said and done, and we have -- we look back on the year, we may find our electronics business is down a third, and that's more than other customers based on where our exposure is, where we're more exposed to certain end user customers, and we have less exposures when you might expect to say the Japanese businesses and more exposure in some other areas. So, let me say that that's the case. I think on dollar for dollar basis on the overall market, we may find our share decrease while our account share is maintained.

If I move on, any potential -- any trade repercussions that may be impacting your consumer electronics business in China?

It's not clear to me but that's obviously -- it's very hard to parse out what’s consumer-led, government stimulus-led anxiety about investment led. So, the answer to that is I think I just don't know.

Okay, got it. Thank you.

Our next question comes from Paul Coster with JP Morgan. Please proceed.

Hi. This is Paul Chung on for Coster. Thanks for taking my question. So, just going back, your spend has slowed in 1Q. It looks like it’s expending in Q2 and your pace of hiring slowed as you mentioned. But how should we think about the second half on top line for the full year? Did notice some comments, you mentioned on outsourcing some engineering cost, is that something you're doing and is there kind of like a bigger focus now here on kind of costs?

So, A, we don’t give expense guidance for the full-year, but you can see we’re slowing down our expenses. And as I mentioned to an earlier question, we are allocating resources into higher growth areas. So, I think we should think of this as a pivoting of talent and resources towards higher growth areas. It's certainly not a kind of a serious reduction, cost cutting environment, like we might have seen say in 2008. That's not where we are. We are not heading for the bunkers by any means. But we are just starting to focus a bit more on allocating resources to high growth areas. And it's driving some productivity through the business we invested last year and bringing a lot of new Cognoids on board for getting them up to speed, and we invested a lot in our new ERP system which can drive a lot more productivity for us. So, I think of it is as pause and a reallocation rather than a reduction. So, I wouldn't expect to see us supporting reduced expenses quarter-on-quarter as we get through the second half of the year than any growth rates I think will be relatively modest.

Understood. And then, lastly, I don't think you’ve had an Analyst Day in years. So, why now and any preview on the agenda? Thanks.

So, we have an Analyst Day pretty much every three years. And I think that's been the case for maybe 15 years. So, we're right on time, to have it next month. And so, there’s nothing to read really -- nothing to read into that. But we're very much looking forward to bringing many of you to Natick. You will see so many changes and we have a lot of exciting things to show you in September.

Great. I appreciate it.

Our next question is from Matt Summerville with D.A. Davidson. Please proceed.

Hey. Good afternoon. This is Drew Haroldson on for Matt Summerville. I just have a couple of quick questions. First, can you talk about specific end market trends outside of auto consumer-electronics, logistics, areas such as general industrial life sciences, food and beverage, and provides regional color?

Your question is very broad. So, I think I'll focus on some highlights. At Cognex, we are very thoughtful about end markets where machine vision can really add a lot of value over a long term. So, some of the markets you named, certainly that's the case. Life sciences is the market where we've been investing and focused on for a long time and we’re actually very pleased with the progress we're making on that. This is a market where customers make machines that generally look at human bodily fluids such as blood and analyze it with reagents, and they bring machines to market that require machine vision. And the market generally has used some pretty basic ID, pretty low price point ID products from some companies in that space. And what we’ve seen is much more interest and need to do a lot more with machine vision. So, we’ve been focused on this market for a while. We tend to measure success by design wins and large companies that you would recognize the name of, design a machine and they include Cognex vision. And when they do, what we see is the potential to generate many millions of dollars for each machine that was specified into over a 7 to 11-year period. So, one of the OEM machine projects we won with the major European life sciences company last year, we expect to generate several million dollars of revenue per year starting in 2021. And then, we actually won 20 new design wins last year, so not all of them as big as that one but have the potential to generate hundreds of thousands or millions of dollars of revenue per year for substantial periods. And it’s not material to our results now but we believe it will be a larger contributor in a few years. So, that’s -- that would be one example certainly. And I think it is something I’d want you take away from my comments is we have a pretty long-term view about where machine vision can play and the benefits it can provide, and other market we haven’t really talked about in recent calls but anticipate we will perhaps at the Analyst Day or in future, the market for mobile terminals. It’s a new market we entered about three years ago where we have an advantaged product that integrates smartphones into our design with Cognex machine vision on the front and it’s capable of doing a lot of very interesting and powerful functions for those in logistics and in manufacturing. So, that’s the business we expect to double this year off a relatively small base, but it’s another example of a vertical market where we’re seeing a lot of growth. Maybe if there is a third market I’d point to. Cognex machine vision is very powerful and helping customers in highly regulated good fight counterfeiting and diversion. And that’s a market that is buoyant and sees a lot of investment going in and where we’ve seen a lot of growth in our business, those of whom want to fight those kinds of problems in markets like tobacco for instance. So those will be examples where we see long-term growth potential, and we’re investing and we’re seeing good results in the short-term, even though they may not be that visible to you in the results that we published each quarter.

And then, as a quick follow-up, my second question, in your mind, what are the things that need to happen for mobile terminals to become a meaningful part of Cognex? Thanks.

So, I think, we came to market with an innovative kind of disruptive concept. And what we’ve seen is a lot of customers have resonated with that and have bought small numbers of products and have been experimenting with them and seeing what they can do with them. So, what we need to do is make sure that we can convert those customers into large users because they may bought five from us and that they might buy 5,000 a year from some of the large players in that market. So, the key will be our ability to convert some of those customers from those who are experimenting with our technology to fully adopting it.

We have reached the end of the call. I will now turn it back over to Dr. Shillman for closing comments.

Yes. Thank you very much. Look, it's obvious that things are slowing down in much of the world in manufacturing, the sale of new phones does seem to be growing and sale of cars seems to be slowing, maybe millennials or whatever. The good news is, first of all, that even though our revenue is slowing down, we're still going to be very profitable in 2019. We expect to be very profitable and also to have positive cash flow. And aside from that, we are highly confident that we will be back into good times in a year or so. The world needs more products, consumers want to buy things of high quality and low cost, and the only way to get there is through automation. And Cognex plays a key role in the automation of virtually everything you buy. So, we expect to get back on a growth track when the economy improves and when vendors, when the companies that manufacture things, start manufacturing more of the stuff. Generally speaking, our products are not reused, they're not repositioned, but when the new line opens up or new products are coming to market from manufacturers, they need machine vision and it's generally Cognex machine vision. And as Rob pointed out, we haven't lost any customers. That thing is very important to us to keep track of customers and making sure that hopefully that we never lose a customer. So, what we have seen of course is some customers, in particular large ones, buying considerably less, and that's what you see reflected in our comments today. Okay. I hope to be able to report on better results in the coming quarters and to take your questions again at that time. Thank you for attending the call. Bye, bye.

Ladies and gentlemen, thank you for your participation. This does conclude today's teleconference. You may disconnect your lines and have a wonderful day.